5 Hated Stocks That Could Pop in May - views

BALTIMORE (Stockpickr) -- When investors as a group feel strongly about something, it pays to take note. Often, that’s because they’re wrong.

That’s especially true when they hate something. Hate is a powerful emotion, and it’s a powerful disadvantage to bring into your investment decision-making. tTat’s not just my opinion -- it’s a fact. My research shows that buying the stocks everyone else hates could help you stomp the market.

When I say that investors “hate” a stock, I’m talking about its short interest. A stock with a high level of shorting indicates that there are a lot of people willing to bet on a decline in its share price -- and not many willing to buy.

So what do the numbers say?

Going back over the last decade, buying heavily shorted large- and mid-cap stocks (the top two quartiles of all shortable stocks by market capitalization) would have beaten the S&P 500 by 9.28% each and every year. That's some material outperformance during a decade when decent returns were very hard to come by.

It's worth noting, though, that market cap matters a lot. Short sellers tend to be right about smaller names, with micro-caps delivering negative returns when the same method was used.

Today, we'll replicate the most lucrative side of this strategy with a look at five big-name stocks that short sellers are piled into right now. These stocks could be prime candidates for a short squeeze in 2013.

In case you're not familiar with the term, a "short squeeze" is the buying frenzy that ensues when a heavily shorted stock starts to look attractive again to investors, causing share price to skyrocket. One of the best indicators of just how high a short-squeezed stock could go is the short interest ratio, which estimates the number of days it would take for short-sellers to cover their positions. The higher the short ratio, the higher the potential profits when the shorts get squeezed.

Naturally, these plays aren't without their blemishes -- there's a reason (economic or otherwise) that these stocks are hated. But for investors looking for exposure to a speculative play with a beefier risk/reward tradeoff, the data tells us that these could be powerful upside plays for the coming year.

First up is Libery Global (LBTYA), a firm that owns cable networks, satellite TV operators, and phone and internet providers in more than a dozen countries in Europe and Latin America. Investors hate liberty right now. With a short interest ratio of 12.04, it would take close to three weeks of buying pressure at current volume levels just for short sellers to exit their bets against the stock.

Liberty owns unique assets in countries where it’s often the only game in town. Liberty’s experience operating cable networks in scores of countries gives it unique positioning -- it’s able to modernize business models in developing countries and generate substantial cash from its more mature networks. Not surprising, bundled services are a highly desirable offering for Liberty’s units; they offer fatter margins without the huge customer acquisition costs associated with new subscribers.

Running cable network infrastructure isn’t cheap, though, and Liberty’s leverage is a big reason for why investors hate this stock so much. Despite exposure to Europe, a market that most investors hate, Liberty generates more than enough cash to cover its debt obligations right now. With free-flowing debt markets and record-low rates, that’s unlikely to change.

Monday’s earnings release could be a catalyst for upside if the firm manages to one-up Wall Street’s expectations for the first quarter.

Omnicom Group

Advertising giant Omnicom Group (OMC) has staged a stellar run in 2013, much to the chagrin of short sellers. Shares of the $15.6 billion firm have climbed nearly 20% since the calendar flipped over to the new year, besting the S&P 500’s already-impressive climb this year. But short sellers are continuing to pile into OMC right now. At last count, the firm’s short interest ratio stood at 12.17.

Omnicom is a publicly traded collection of advertising and marketing agencies. The firm’s agencies include some of the most prominent names in the world, including DDB and BBDO. Since reputation is what sells creative firms to potential clients, OMC’s positioning gives it a narrow economic moat. Omnicom keeps its reputation by employing human capital. Individual talent matters more at an ad agency than in most industries, and OMC must retain that talent if it wants to retain key accounts. While retention does present a risk to the firm, OMC’s reputation helps court some of the best employees in the industry.

Financially, OMC is in good health. Cash and investments cover around half of the firm’s overall debt load, and the firm easily covers its 2.68% dividend payout. Dividends are like kryptonite for short sellers, so as long as OMC keeps shelling out a respectable yield in this low interest rate environment, short sellers are going to keep feeling the squeeze. Relative strength in OMC’s share price this year doesn’t hurt either.

IntercontinentalExchange

IntercontinentalExchange (ICE) may be a relative newcomer to Wall Street, but that’ll change if the firm’s acquisition of NYSE Euronext (NYX), the parent of the venerable New York Stock Exchange, goes as planned. Even though IntercontinentalExchange didn’t even exist a dozen years ago, its strategy of growth through acquisition has paid off to date. The ongoing merger is probably to blame for the hefty short interest in ICE -- the short ratio currently weighs in at 19.83 -- but it doesn’t matter why investors hate it. At current volume levels, it would take two months of buying pressure for shorts to cover their positions.

A short squeeze could happen if shorts try to exit their positions en masse.

Until ICE officially snaps up the NYSE, its biggest business will still be niche OTC derivatives. ICE is a major player in the OTC market for “less commoditized commodities,” helping to match buyers and sellers of more specialized securities. The firm’s clearing business is a very attractive complement to its exchange and OTC trading arm -- it essentially lets ICE fill a role that a third-party would otherwise get a piece of anywhere else.

Energy and agriculture are core markets for IntercontinentalExchange. The firm’s products are critical for commercial hedgers, and as a result, ICE can command bigger benefits than it would be able to grab if it dealt with more competitive instruments. While ICE is financially in good shape right now, the NYX deal is going to ramp up debt materially. Even so, buying up a profitable exchange operator like NYX should be accretive to income -- even before cost savings are factored in.

SBA Communications

As mobile phones continue to grow in both unit consumption and bandwidth consumption, the industry’s network of supporting businesses should benefit. Take SBA Communications (SBAC), for instance: The firm is one of the biggest independent cellular infrastructure firms in the world, with thousands of cell towers spread across North, Central and South America.

Building cellular capacity is costly, so SBA’s business is centered around enabling carriers to increase the number of bars subscribers get without taking on even more balance sheet leverage. By leasing out capacity to multiple carriers on a single tower, SBA can increase network strength more economically than a single cellular firm that had to build its own individual tower. It’s those economies of scale that keep SBAC in business for the foreseeable future. Unless carriers want to subsidize their competitors, leasing space from SBAC makes a lot of sense.

Obviously, the cell tower business isn’t cheap, and it’s no surprise that this firm has financed its network primarily with debt. Even so, SBAC generates enough cash to cover its obligations, with enough left over to undertake an aggressive share buyback initiative.

Keep an eye on how this firm trades after posting first-quarter earnings this week. The firm’s short interest ratio of 11.5 means that there are some big bets against shares; an attempt to cover those shorts could snowball.

Staples

Office supply giant Staples (SPLS) owns an attractive crown. It’s not just a huge retail and commercial office supply firm, it’s also the second-largest online retailer on earth based on sales. On the brick-and-mortar side, Staples boasts more than 2,000 stores spread across the globe, and a corporate delivery business that generates approximately 40% of total revenue.

Staples dug itself a small moat when it acquired Corporate Express in 2008; by delivering supplies directly to businesses using its own network, Staples is generally able to grab an entire firm’s office orders in one fell swoop. And because switching costs are necessarily high in an institutional setting, Staples is able to retain those corporate customers far better than it can hang onto fickle retail customers.

An increased focus on Staples’ own private label product line has helped to boost margins in a business that otherwise typically yields extremely low profits. And by selling its own line of more commoditized products like paperclips and pens, it’s able to compete much better on cost. The firm’s short interest ratio of 11.12 shows that short sellers don’t agree; at current price levels, it would take more than two weeks of buying pressure for shorts to abandon ship.

At the time of publication, author had no positions in stocks mentioned.

Jonas Elmerraji, CMT, is a senior market analyst at Agora Financial in Baltimore and a contributor to TheStreet. Before that, he managed a portfolio of stocks for an investment advisory returned 15% in 2008. He has been featured in Forbes , Investor's Business Daily, and on CNBC.com. Jonas holds a degree in financial economics from UMBC and the Chartered Market Technician designation.